How to incorporate alternatives into a portfolio

Building a portfolio diversified by alternatives is a delicate balancing act, one which requires a methodical layering of alternative strategies onto core portfolios, according to Michael Henley.

“We’ve been very mindful diversifying our public asset class exposure with private asset class exposure,” said Henley, CEO and founder of Brandwine Oak Private Wealth.

Starting in 2020, Henley and his team began augmenting public stocks and bonds with private real estate. The list has grown to include private equity, private credit, and crypto. The latter was introduced in 2021—but the timing was, in his words, comically unfortunate.

“We first added in private real estate. Now, we basically complement all of our public asset class exposure with private asset class exposure,” he said. “We invested in a half percent, one percent [crypto allocation]. About two months later, FTX happened.”

The fallout was immediate. Clients who had put in $50,000 watched their crypto allocations get slashed in half. Still, Henley notes, “All of our clients stayed invested, thank God. It's been 4x since then.”

It’s one of the reasons they limit such volatile assets to Roth IRAs. For Henley, keeping tax simplicity remains a top priority. Henley describes their allocation process as “part science” and “relative to the client’s liquidity needs.” Alternatives typically make up between 5 to 10% of client portfolios.

“We do clients' tax returns in house,” Henley explains. “All of our CPAs say, ‘Look, we don’t want to deal with K-1s a lot of times.’”

That sentiment feeds directly into how Brandywine Oak structures their tax strategy for high-net-worth clients. Henley says private equity and crypto are put into Roth IRAs, while private credit and gold go into pre-tax IRAs.

 “It’s not what we make, it’s what we keep after taxes that matters.”

And when real estate's tax efficiency is on the table, Henley sees it as a no-brainer for after-tax accounts. “Blackstone private real estate, most of the yield there, 90–95%, is tax-free,” he explains.

One of the challenges Henley hears from incoming clients is around tax complexity. The mess of delayed filings and multi-schedule returns is something his team aims to weed out of the client experience.

“One of the things that new clients say is, ‘Our previous advisor at Bernstein or Goldman Sachs, we had to file an extension every year because of K-1s.’”

Looking at the broader economic environment, Henley sees alternative investments gaining traction, but only within clearly defined limits. “We’re going to have our plain vanilla asset classes: private equity, private credit, private real estate, crypto,” he says.

Henley sees private credit as a strong suit in the current economic forecast, as it offers a way to sidestep public fixed income and its recent struggles. But he’s also watching the macro environment closely.

“Private credit has been very interesting just from a diversification standpoint,” Henley says. “If we get a recession, we expect the Fed to cut rates. That should be a net beneficiary—bonds should be a net beneficiary of falling rates.”

For legacy clients, the firm’s more tactical, looking at real assets, gold, even infrastructure. But for the broader client base, Henley says he employs a more hands-on approach.

“There’s a lot of legacy money that doesn’t need as much liquidity,” he says.